What is an economic crisis?

We are starting to publish a series of articles on theoretical issues that matter to all union, party and social movements activists in a simple language and adapted to our daily life, but that do not make theoretical concessions in the name of simplicity. The first is “What is an economic crisis,” which will be followed by others as “What is socialism,” or “What is revolution.” We hope that our readers enjoy this series.

PART 1

Every time is the same litany. When a crisis explodes, workers are called to give their share of sacrifice for the country to grow and produce again, as if the crowded buses, the fast pace of work and starvation wages were not sufficient sacrifice.

Now it began again: the international economic crisis the bourgeoisie, the government, try to convince workers that austerity is necessary and that it is not the time to ask for a pay rise, to ask for better conditions (Labour also agree with austerity and are against strikes and many union leaders follow Labour). They exhibit a multitude of graphs, charts and prospects about the budget deficit, the Stock floating movement and inflation.

But no one explains to workers: Why crises occur? Why are they so sudden? Why do they always happen in times of great economic growth? Our enemies treat us like children. They perform a real shadow theatre, where gnarled fingers appear as if they were seagulls and beautiful bouncing bunnies. And by deceiving they explain the crisis for workers. They want to distract us while entangling the rope around our necks. It’s time to end this spectacle of lies, turn on the lights and begin the show.

What is wealth and where does it come from?

In the midst of so many figures that the bourgeoisie show us daily, there is one that is more important than the others. When it is released, the bourgeois ask for silence and to listen carefully: is the GDP. Gross Domestic Product is the sum of all goods and services produced in the country during the year. The bourgeoisie wants to know two things: 1) what is the absolute value of GDP and 2) if it increased or decreased compared to the previous year. If it increased it is a sign that the country is richer. If it dropped, it is because the country is poorer than the previous year.

Here we have an important clue to understanding the economy: to evaluate the wealth of the country, the bourgeoisie does not care about the amount of money in circulation, but with the amount of goods and services produced. That is to say, true wealth is not in money. Money is just a way of representing wealth. The true wealth is the goods and services that the country produces. This is the first conclusion.

But we still need to know: where does this wealth come from? Look around and pay attention to the objects that surround you. What they have in common? Certainly it’s not its utility, or the raw material they are made of. These are a particular of each object. A pen is used to write, a T-shirt to wear. The pen is made from plastic, the T-shirt from fabric. In this sense, they are absolutely different. What all objects have in common is the fact that they are the result of human labour. The useful objects produced by human labour constitute the wealth of society. Therefore, all wealth comes from human labour. There is not a single useful object or service that has not been done by human labour. This is the second conclusion.

It can be argued that nowadays there are several objects that are made by robots or fully computerised services, without the participation of man. This is not true. Robots, machines and computers only make human labour more effective. The robot welds the hood perfectly. But who makes the robot? Men do. Then we return to the beginning: machines just help the man, but all wealth comes from human labour.

So, what is the capitalist’s job? He appropriates the wealth produced by his employees and sells it in the market, thus obtaining profit. The more wealth workers produce, the greater the profit for the capitalist. Less wealth produced means less profit.

What is the value of a commodity?

But how to evaluate the wealth produced? How to know the value of a commodity? If the only thing common to all commodities is that they contain human labour, then the value of a commodity is determined by the amount of labour it contains. If a product contains more labour, it is worth more. If it contains less labour, it is worth less. What is worth more, a Fiat Uno or a Ferrari? Instinctively, anyone would answer: a Ferrari! Right, but why? Because a Ferrari contains more human labour. It is more complex, its engine is more powerful, and it uses better raw materials, higher technology. All this demands much more human labour. So, in fact, a Ferrari worth more than a Fiat Uno, which uses simple materials, low-tech, contains less human labour. But, how to measure that labour? The only way possible is: by time. If a product takes longer to be produced, it’s worth more. If it takes less time, it costs less.

Let’s recapitulate these three basic principles: 1) true wealth is not evaluated in money but in goods and services produced, 2) all goods are the result of human labour, and 3) the value of a commodity is determined by the amount of labour required to produce it and it is measured by the time spent.

The origin of the crisis

To understand the basic mechanism of economic crisis, visit a factory and observe how its owner behaves. Let’s say that the plant in question produces phones and the owner’s name is Mr. Smith.

Mr. Smith employs several people and has several machines. The wages paid to workers and the money that Mr. Smith has spent to buy the machines constitutes the capital of Mr. Smith. It is the investment he has made. He, like all bourgeois does not produce for the good of society, but for their own good. He spent a lot of money on equipment and salaries and now wants to make a profit. But not only that. He wants to make as much profit as possible at the lowest cost possible. That is, he seeks a certain rate of profit. A profit of £100,000 is good or bad? It depends. If he invested £200,000, is a great result because it means a profit of 50 %. But if he invested £1 million, the result is not so good: a rate of profit of only 10 %. Thus, the concern of Mr. Smith is always the same: how to produce more with less investment?

The cycle of growth

Mr. Smith makes good phones and sells them for a good price. Thus, he has secured his place in the market. But Mr. Smith is not the only phones maker in the world. And that’s where the problems begin

Beside the factory of Mr. Smith there is other plants about the same size and with virtually the same equipment than Mr. Smith’s, producing similar phones and for the same price. It is the factory of Mr. Yakamoto.

But Mr. Yakamoto decides to innovate: he bought a new machine, ultra-modern, fully computerized. With this machine he can produce more phones in much less time. Consequently, Mr. Yakamoto floods the market with cheaper phones and threatens the business of Mr. Smith.

What is the reaction of Mr. Smith? If he’s smart, he will buy a machine identical to that of Mr. Yakamoto to produce too many phones in much less time. With the purchase of the new machine by Mr. Smith, there is a change in his factory: the capital invested in the production is increased. Now Mr. Smith has more and better machines.

Everything seems fine. But, remember what was said before: only human labour creates new wealth! The machine that Mr. Smith bought to imitate Mr. Yakamoto doesn’t generate new wealth. It only makes human labour more productive. So Mr. Smith invested money in production, but the total value of the wealth produced in the factory is still the same. It is clear that Mr. Smith produces more phones, because of the new machines, but each phone is produced in less time than before. Therefore, each phone has a smaller amount of human labour contained therein and is worth less than before the purchase of the ultra-modern machine. The result is that the Mr. Smith’s rate of profit fell: he made a huge investment, but the total amount of wealth produced in the factory remains the same, since the workers are still working the same hours.

But Mr. Smith is very smart and realized something: if he increases production further (accelerating the pace of work, for example, or creating an extra shift), he can balance this momentary loss of profitability. He will try to compensate for the fall in the profit rate with an increase of the total mass of profit. Even if every phone is worth less than it was before (because it is produced in less time and has therefore less human labour), he will be able to produce more phones and take off the difference. So, begins a way forward for the capitalists.

All capitalists who invests in new machinery to compete with their neighbours, realizes that the rate of profit they can get in each product decreases (because the machinery costs money). And all of them solve the problem the same way: further increasing the production to make up the difference! Some even hire more workers, open a third shift etc.

As it turns out, things start to get tense, but still there is no crisis. Rather, this is the period when the economy continues to strengthen. As everything is going forward, life seems wonderful: the GDP increases continuously, unemployment decreases, workers consume, banks open credit lines for both the capitalists, who do not stop investing and the workers, who don’t stop air travel and having fun.

And, as the competition doesn’t end, the escape forward continues: more machines, more investment, and more production. Each time the rate of profit falls for the individual phone (as explained above), the capitalist responds with an increase in the total number of phones produced. These, in turn, are becoming cheaper for the consumer, that no longer has so many pockets for so many don’t-know-what-for phones.

The explosion of the crisis

But then, a time comes when the amount of capital invested in production (modern machines to beat the competition) is so large and the rate of profit on each individual cell is so small, that no amount of goods worth such an investment. Billions are invested for a shrinking rate of profit. The only solution would be to raise prices. But it happens that sales have begun to fall because the market is already flooded with cheap phones and any capitalist who tries to increase his prices now will lose the competition to others.

Thus, the only way left to Mr. Smith is the most painful: cutting investment! No more new machines, close the third shift, fire the employees, cut benefits and advantages, produce less. With that, Mr. Smith seeks to reduce production costs to increase at least a little his rate of profit that he can take from each phone individually, since sales begin to fall and increased production would mean throwing money away. The example of Mr. Smith is followed by Mr. Yakamoto and by all other capitalists of the phones industry: cut investment!

Thus, the capitalist economy, after traveling at 160 km/h on a three lane motorway suddenly starts going in the opposite direction. Now everyone will decrease production drastically, everyone will fire workers, everyone will cut wages and personnel. GDP falls sharply. The escape forward turns into a true escape: backward. Plenty turns into penury. Employment into unemployment. Optimism into fear. Spending into savings. It is obvious that the car has overturned. It is the explosion of the crisis. And this is just the beginning …

PART 2

Sneak previews: speculative capital

Let’s consider now another variant of the economic crises, the so called financial crisis; find out how is the recovery of the economy towards a new phase of growth and expansion, and finally, how a new crisis is born, that is, its cyclical nature.

When a film is very successful nowadays, their producers usually launch on the Internet or on DVD, sneakpreviews that have not been shown in the cinema when the film was released. Let’s imagine that our story also has some new footage, cut from the first episode, and now revealed.

At some point in the first episode, Mr. Smith, our imaginary bourgeois, realized that the rate of profit of his business started falling, due to the huge investments that he had to do to fight against his competitors. As we all remember, it was the moment when everything was rather going well, and the crisis was only a shadow on the horizon.

At that time, in the board meeting of the company, some shareholders proposed cutting investment, firing staff and reducing production right away, to avoid further problems. But another sector of shareholders with greater entrepreneur skill proposed another way out: Do not close any plants or fire anybody for now, but take the money that should be used in new machinery and technology, and use it in the financial market! It was the perfect way out: no one would lose their jobs and the fall of the company’s profitability would be easily offset by the interests obtained from the investment funds.

They discovered a great investment fund that returned up to 25 % of interest per year and they threw themselves body and soul into the new business. Life again smiled at Mr. Smith! For every £1 million he invested in production, he would earn just £100,000, that is, he had a relatively low rate of profit of 10 %. But in compensation, every £1 million he invested in the financial market, he would earn no less than £250,000! The finance department of the factory became the true heart of the company, a source of profit much more important than the production line itself.

But as we have seen, all capitalists tend to act the same way. Thus, as with Mr. Smith, Mr. Yakamoto also decided to compensate the fall in profitability of his plant speculating in the financial system. And with it, many thousands and tens of thousands of capitalists did the same thing. Thus, a huge amount of capital that should be invested in production begins to migrate to the financial system. The amount of capital applied in a speculative way is so great that it begins to exceed the amount of capital invested in the actual production. At first, this causes no problem. Instead, the amount of credit available to the population increases, banks offer increasing income, invent new kinds of financial applications and the economy heats up even more.

Speculative bubbles

But remember what was said in the beginning and established as a basic principle to understand the economy: only human labour creates new wealth. Money is just a way of representing wealth. The wealth is in real goods and services and not in money. This principle is in stark contrast to the situation described. What is happening? Now what is happening is that the bourgeois, on moving their capital to the financial market, begin to multiply wealth that does not really exist, it has no real basis in produced goods. The amount of money multiplied like a miracle on behalf of speculators fails to match the amount of goods and services produced. An abyss opens before the capitalists and they walk happily toward that abyss, dragging the whole society.

As in the cartoon, the capitalists continue walking in the air without falling into the abyss. They only fall when they realize that there is no floor anymore. While everyone believes in the financial casino, everything goes well. But there comes a time that people realize that the distance between the real wealth produced and what banks offer is too big. Rumors start about bankruptcies and defaults. If only two or three speculators withdraw their investments from the financial market, nothing happens. But if an excessively large number of investors lose confidence in the banks and the market, and decide to withdraw their investments, banks will not have enough money to repay the investors, not to mention the promised interest. Suddenly, the fact that everyone already knew, but no one wanted to acknowledge is revealed: the money promised by banks never existed, it was just electronics bytes in computers, only promises of wealth that had never been produced. And a bank that cannot pay their customers can have only one destination: bankruptcy, the abyss.

When this happens, the financial pyramid collapses. The profitability of companies, kept artificially high by the speculation deals made by their financial departments, falls violently. Result: Mr. Smith, who had already decreased his investments in production to speculate on the stock, now closes any and all investment. The example of Mr. Smith is followed by Mr. Yakamoto and all other capitalists. It is the explosion of the crisis.

All roads lead to crisis

As we have seen, our history can have two different courses, but the end is the same. The capitalists may postpone the economic crisis, creating bubbles, slowing the decline in profitability of their companies. But in the end, the truth arises: only human labour creates new wealth. Financial speculation is nothing more than another form of competition among the capitalists, another way of trying to appropriate the real wealth produced in factories, fields and mines.

Therefore, the so called financial crises are just a different manifestation of the same crisis of overproduction that was explained in the beginning. At the root of any crisis is, we repeat, the falling rate of profit and overproduction of goods.

How the capitalists go out of crises

Regardless of how the crisis can flare up, the capitalist economy cannot remain forever paralyzed. That would mean the collapse of society. All crises are followed by a recovery period. After this recovery, there is a new peak and a further fall. Capitalist crises have therefore a cyclical character. They are like the seasons: autumn may be a little late, summer can be colder than last year, there may be an Indian summer in September, but one season always comes after another, always in the same order, and what is more important: they always come.

Once the crisis is established, the capitalists, to recover their profit rate, use several mechanisms:

1) Closing the less profitable plants. This is what happened, for example, with the GM in 2008, which closed its U.S. plants, but increased investment in factories in Brazil because they were the most profitable of the group, or what is the same, in Brazil the workers are more exploited than in U.S.;

2) Reduction in personnel expenses. This objective, in turn, can be achieved in several ways: lower wages and benefits cuts, lower pensions; or the dismissal of some of the workers. It is important to remember: the capitalists could not apply this expedient without the help of treacherous union leaders. They are always convincing workers that everyone should do their part, so that the country gets out of the crisis. Which means: the capitalists come with the rope, the workers with the neck;

3) Invasions and wars. They reheat armaments and construction production (for plans of reconstruction of what was bombed etc.) and look for new conquests of peoples to open new markets for their products. This was the way Bush recovered the USA economy from the crisis of 2000-2001: invading Iraq and Afghanistan;

4) Large bankruptcies and merges, which make life easier for the capitalists who survive because it reduces competition.

We call these measures burning of capital because it means the destruction of the productive potential of society for later recovery. It’s irrational, but it is the way capitalism operates. The cycle of destruction – reconstruction is the only way that capitalism knows to get out of the crisis.

A new peak and a further fall

But the real recovery will only begin when the capitalists resume investments and the rate of profit begins to recover. In general, this phase includes: 1) the development of new branches of production, such as information technology, biotechnology, green energy etc. 2) the incorporation of new markets to the system, such as China, 3) the expansion of old markets, such as what was done with the Brazilian market in 2008 and 4) large infusions of public money in companies such as what was done by the Bush and Obama governments to save GM from complete bankruptcy and the bailout of banks. When this happens, the return of investment in the production is worthwhile, the economy overheats; overstocks begin to empty again; workers recover their jobs, production accelerates, competition intensifies again.

But as it turns out, the recovery phase of the economy is nothing more than the preparation of the next crisis. And the explosion of the crisis is just the beginning of the next recovery and so forth. Thus, the capitalist economy never finds its balance. It lives from crisis to crisis.

Crises and Socialism

The existence of large cyclical crises in the economy has already been accepted by most people. But it should not be. Capitalist crises are the proof of the irrationality of this system, in which technology and high labour productivity are both sources of comfort and plenty, but also of misery and despair. A system that drowns in its own wealth, while people eat trash, does not deserve to exist.

Only a socialist economy, focused on the needs most felt by the population itself, can transform the chaotic succession of crises and recoveries in a peaceful and harmonious development of all the potential inherent in human labour. Only socialism worldwide will be able to replace the harsh winters and scorching summers, harmful for any organism, for an eternal spring.

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Who We Are

La Voz De Los Trabajadores/Workers' Voice is a revolutionary socialist organization. We are the sympathizing organization of the International Workers League (LIT-CI) in the United States. We formed in California in 2008 around the struggles of the immigrant working class & the fight for militant, democratic trade unions and other workers’ and people’s organizations that defend the principle of class independence.